Optimal Capital Structure For Public-Private Partnership Projects’ Refinance

Infrastructure requires large-sum investments, and has a long payback period. Thusgovernment tends to underinvest in it. In order to solve the problem and improveefficiency, government uses public-private partnership (PPP) model to construct andoperate infrastructures. However, PPP projects usually have complex contracts, longconcession periods, and multiple related parties. So it is difficult to predict the cash flowand risks through various stages of the project, which leads to a shortfall between fundsneeded and original plan. Refinancing is required to meet the shortfall and reducefinancial cost.Refinancing, in turn, raises the gearing ratio and financial risk. Some of therefinancing arrangements change financing condition, financing method and distributionof interests. These arrangements expose the public sector to more risk. The public sectorshould revise the arrangements and demand compensation.This paper studies a PPP project’s cash flow after refinancing; uses three cases toillustrate the specific process of refinancing PPP projects, analysis impacts on theproject’s stakeholders. The public sector often bears refinancing risks, and does not geta reasonable distribution of refinancing gains. To quantitatively calculate the impact tothe project’s stakeholders, this paper introduces the Leland model. When the projectfaces financial difficulties, the public sector will take over the project in order tomaintain normal operation. So this paper sets the PPP project financial trouble item,gives up the project developing item, establishes a formula which can use the banklending rate to derive the financial difficulty item, and simultaneous equations to build amodel. Compared with the traditional discounted cash flow method (DCF), the modelestablished a link between the level of risk and the lending rates; we can calculate thedebt asset ratio’s affection for the project’s stakeholders.The model is then applied to analysis the power industry, studies the public sector,the private sector, and the lenders preferences on the optimal debt asset ratio underdifferent conditions. The ultimate debt asset ratio should be formed in the intersection ofthree preferred range, and then the lowest refinancing gains the public sector shouldaccept under different conditions can be calculated. Borrow for the concept the projecthas a minimum expected value at a given confidence level, this paper build a Pay-at-risk calculation which means the public sector’s minimum compensation level under certaindebt asset ratio.Finally, the paper compares the highways, the environmental protection industry,the gas industry, the water industry, the ports industry, the airports industry and therailway industry’s optimal capital structures, current debt asset ratio differences. Andfind out that the project’s return volatility and interest rates have the biggest impact onthe project’s optimal debt asset ratio range, the lower the earnings volatility is, thehigher the optimal debt asset ratio range is. In addition, the paper establishes a formulafor the derivation of bankruptcy loss ratio of PPP projects in the research process, andfinds in previous studies that they ignore in data processing for the handling ofcapitalized interest.